‘Hallibaker’ merger bid shows consolidation as early symptom of oil price slide

We can expect more such deals as companies struggle to survive, cut costs and shed unwanted assets, writes Robin Mills.

The year’s most striking oil merger bid turned hostile on Friday when Baker Hughes said that Halliburton was seeking to replace its entire board.

World No 2 oil services company Halliburton and No 3 Baker Hughes confirmed on Thursday that they were in talks to combine, but discussions soon stalled over the price and planned asset sales.

The merger would create a company with a market capitalisation of more than US$71 billion, second only to sector leader Schlumberger’s $122bn.

Baker Hughes is the descendant of Hughes Tool Company, the most profitable but least flashy part of the business empire of Howard Hughes.

Wildcatters in the chilly waters of the Arctic or the Kurdish mountains, or the giants of the oil business such as Shell and Total, tend to get the headlines. But oil services are essential to the industry’s smooth functioning. The firms conduct seismic surveys to locate possible oil and gasfields; drill wells; log them to determine what rocks they are passing through; and equip them for maximum and safe production.

BP’s disastrous Macondo well, where the well was not properly cemented to block the flow of unwanted fluids, is a reminder of how crucial these tasks are. These days, the service firms – not the oil companies – develop most of the industry’s new technology.

The timing of the deal may be opportunistic. Baker Hughes shares were down 30 per cent since their high in July, as the fall in oil prices encouraged their customers to cut spending. But consolidation in the service industry has been looming. Many new entrants in recent years, attracted by demand from shale operators, do not have the economies of scale of the bigger service companies, nor the strength to resist being squeezed on price by their customers.

Profits margins at Baker Hughes in hydraulic fracturing are only about half of those at Halliburton. However, the combined company would have had higher revenues than Schlumberger for last year, although its net profit margin of 6 per cent was well below Schlumberger’s 15 per cent.

About half of the merged business may raise “antitrust” or competitive concerns, with the authorities likely to require sales of assets totalling about $10bn. “Hallibaker” would have more than half of the market for cementing wells and completing them for production, and about 40 per cent of drill bits (the ceramic or diamond teeth that actually cut through the rock) and hydraulic fracturing – the technology behind the shale boom.

These service companies are particularly important in the Middle East. International oil companies are hardly present in Saudi Arabia and Kuwait, but Halliburton, Schlumberger and their peers are essential to the operations of Saudi Aramco, Kuwait Oil Company, and the giant fields of southern Iraq. In turn, Halliburton and Baker Hughes both make about half of their revenues from North America, but the next 17 to 18 per cent comes from the Middle East and Asia, and one of Halliburton’s two global headquarters is in Dubai’s Emirates Towers.

So the merger may concern the region’s national oil companies – which always negotiate resolutely on price, sometimes to the exclusion of quality. A more consolidated oil services sector with pricing power would hamper efforts to reduce costs, at a time that Oman and Saudi Arabia are contemplating massive hydraulic fracturing programmes. On the other hand, “Hallibaker” would compete more directly with Schlumberger for the very biggest projects.

We can expect more such deals as companies struggle to survive, cut costs and shed unwanted assets. And it may be a chance for Chinese, or even Middle Eastern, service companies to pick up new technologies and grow overseas. Whether completed or not, this merger bid shows how the effects of the lower oil price are already being felt throughout the industry.

Robin Mills is the head of consulting at Manaar Energy, and author of Capturing Carbon.

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